How To Own a Franchise With No Money?
People who are ambitious and entrepreneurial often explore the possibility of starting a business. However, starting a business is challenging. Approximately 20% of new businesses fail in their first year, and 50% fail by their fifth year. That's where the franchise business model comes into play. Franchisors offer individuals the opportunity to become a business owner with a significantly lower risk. Franchises have an already-made business plan that has proven to be successful in the past. However, buying a franchise typically requires a lot of money. Keep reading to find out how you can go after those hot franchise opportunities when you have no money.
What is a Franchise?
First, it's essential to define exactly what a franchise is. The International Franchise Association (IFA) describes a franchise as "a method of distributing products or services." The franchisor creates a brand's trademark and a business system. A franchisee then pays a royalty fee and an initial cost for the right to do business under the same brand name and system.
What are the Costs of a Franchise?
Franchise costs vary significantly on the brand and type of business. The initial fee that most franchisees have to pay can range from anywhere between $10,000 to $100,000.
Next, franchisees have to pay royalties. The royalty fee structure can be set up differently from brand to brand, but usually are based as a percentage of revenues. The percentage can range from 5-50%.
Lastly, most franchisees are required to spend a certain amount on "marketing fees" per year. This is to ensure the franchise location is sufficiently promoted and has the opportunity to succeed in its local market. Marketing fees typically are between 1-4% of revenues.
Other costs associated with a franchise are insurance, inventory, equipment, hiring, and business licenses, to name a few. Starting and running a franchise may be cheaper than a typical small business, but it's still an expensive endeavor.
How to Get Money for a Franchise
If you're excited about a franchise opportunity, but don't have the capital to move forward, you do have some options.
Franchisor Financing
If you have your mind set on a particular brand, you can do some research if they offer franchisor financing. Many brands understand that their franchisees won't come to the table with all the capital that's needed. Ask the brand representative if they provide funding options for their business partners to get started. Note that this option may require you to have very good credit.
The franchisor will also typically require to see some sort of investment from you into the business as well, to show a commitment to the venture.
Traditional Bank Loan
Banks and credit unions do offer small business loans to individuals that meet specific requirements. You may be eligible if you have:
- A good to high personal credit score (from 670-850)
- A good credit utilization ratio (under 30%)
- A long history of credit with banks
Additionally, traditional lenders like giving out loans to franchisees because they're being backed by a business model that has proven to work in the past. These traditional lenders are especially happy to see brands they recognize, while lesser-known franchise brands may not be as appealing.
Small Business Administration (SBA) Loans
SBA loans are another popular choice for future franchisees. The SBA is a government institution that offers long-term rates at competitive rates. The SBA doesn't actually provide loans but instead guarantees a loan from a bank or credit union. This is an excellent option for someone with a low credit score who can't get approved for a small business loan from a bank on their own.
There are two leading types of SBA loans: the SBA 7(a) and the SBA CDA/504 loan. The SBA 7(a) offers individuals up to $5 million with repayment terms ranging from 7-25 years. The loan can be used for a variety of purposes, from real estate to franchise fees. The interest rates for these loans will depend on the amount and length of the loan.
The SBA CDA/504 loan is a collaborative effort, typically broken down as:
- A nonprofit Certified Development Company (CDA) provides up to 40% of the amount needed by the franchisee.
- A bank or credit union provides up to 50% of the amount.
- The franchisee contributes as little as 10%.
With an SBA CDA/504 loan, there are limitations to how the funding can be used. For example, you can't use the loan to pay for franchise fees.
While an SBA loan is easier to acquire than business loans from traditional lenders, it's still a time-consuming process and requires the lender to have a decent credit score.
Home Equity Loans
If you own a home, you can take out a home-based line of credit or a home equity loan. Both of these options take the value of the equity from your home to approve the loan or credit. Home equity is the difference between what your property is worth and what you owe on the property. For example, if a home is valued at $600,000, but you only have $200,000 left to pay, you have $400,000 in equity. Note, though, that most banks won't let you take out a loan for the entire equity.
A home line of credit allows you to have access to cash, which is backed by the equity of your home.
One downside of the home equity loans is that you're putting your property at risk if you end up defaulting on your loan. Additionally, home equity loans require a high credit score and good debt-to-income ratio for approval.
Rollovers for Business Startups (ROBS)
Normally, taking money out of your retirement fund comes with lots of fees. However, with ROBS, you can avoid these fees and access your money in just a matter of weeks. ROBS allows you to use your own retirement money to start your business, skipping the process of going to a lender entirely.
To qualify for a ROBS plan, you need to have either a 401(k), 403(b), or an IRA account. You will also need to work with a ROBS provider to access the money, and that provider may charge you a small, one-time fee.
Partnerships
If you don't have the capital to start the franchise on your own, consider bringing on a partner who can finance the project. An investor can be a friend, family member, or even an old work colleague. However, if you choose this route, be aware that you're giving up partial control of the business. You will want to work with a partner that you trust entirely. And, it's best to draw up a solid partnership agreement that outlines everyone's responsibilities, rights, and allocation of profits.
Popular Franchise Brands
Some popular franchise brands you may recognize include:
- McDonald's
- Subway
- Taco Bell
- KFC
- Marriott International
- 7-Eleven
- RE/MAX Real Estate
- The UPS Store
Whatever your situation, the most important thing to do is start. Research the franchise options out there for your area and find one that speaks to you. Next, try to estimate how much you will need to launch this new franchise and reach out to the brand to discuss if there's an opportunity in your area. After all this, you can begin to explore the topic of financing your franchise. Work down this list to see which of these options is best for you. Consider multiple options and go with the one that has the best interest rate (if applicable). Start the journey today with Franchise Direct.
